Liquidity Gap In Bankruptcy Companies In The Czech Republic

Purpose: The objective of this study is to analyse liquidity gaps in bankruptcy companies and their potential as a corporate finance management tool employed to timely identify financial problems. The study responds to situations where companies and their management boards do not respond early enough to financial distress, which significantly decreases the possibility of effective remediation over time and an insolvency procedure thus becomes the only solution.Design/methodology/approach: Our analysis is based on a sample of companies whose financial situation led to bankruptcy over one, two and three years before declaring it. The sample includes financial statements (between 2006 and 2018) of companies that later went bankrupt - a total of 982 financial statements. Each company in the sample has been checked for the occurrence of a liquidity gap and its mean & median values in the said periods. We have also analysed the relations between the liquidity gap occurred and selected financial characteristics of the sampled companies.Findings: Most of the sampled companies had a liquidity gap already three years before declaring bankruptcy, and the situation gradually got worse as the bankruptcy approached. The average liquidity gap level is over 68%, and the occurrence of liquidity gaps above the tolerance limit is more than 78%. The sampled companies struggled with substantial liquidity gaps, i.e. they found it very difficult to pay their dues already three years before declaring bankruptcy.Research/practical implications: The analysis has shown that the liquidity gap is a suitable financial management tool, primarily to indicate financial distress and a threat of bankruptcy where applicable. Company managers should integrate the liquidity gap concept into their sets of continuously monitored financial health indicators while also assessing the liquidity gap ex ante in making major decisions, e.g. substantial investments, distribution of profits, etc.Originality/value: The originality of this study lies primarily in analysing a so far unexplored financial indicator that is part of the existing insolvency legislation. The key added value of the study is that it analyses an all new solvency assessment criterion that was implemented into the insolvency legislation in mid-2017, but no similar research has been done towards this end so far.